Adequate capital is required by banks to absorb any losses that arise during the normal course of the bank’s operations. As per recommendations of Basel III capital requirements banks’ capital is split into two categories viz. Tier I and Tier II for supervisory purposes. Tier 1 capital is the term used to refer core component of capital from a regulator’s point of view.
Tier 1 capital comprises the following;
- Paid-up Capital
- Statutory Reserve
- Other disclosed free reserve.
- Capital Reserve represents surplus arising out of the sale proceeds of the assets.
- Investment fluctuation Reserves
- Innovative Perpetual Debt Instruments (IPDI)
- Perpetual Noncumulative preference shares
- Revaluation Reserve*
Less: (Equities in subsidiaries, Intangible assets, Losses (Current period and past carried forward)
*On a review of the existing capital adequacy guidelines, the Reserve Bank of India made some amendments to the treatment of certain balance sheet items for the purposes of determining banks’ regulatory capital. Accordingly, Revaluation reserves arising from the change in the carrying amount of a bank’s property consequent upon its revaluation would be considered as common equity tier 1 capital (CET1) instead of Tier 2 capital as hitherto.
Banks are issuing AT1 (additional tier 1) bonds to meet their higher capital adequacy requirement.
Related article: What is CET 1 (Common Equity Tier 1) capital?
